Recent Developments: In April 2016, the Supreme Court held that the Maryland Public Service Commission’s order is preempted.Case Documents

Factual Background
Maryland and New Jersey are both within the territory covered by PJM, a Regional Transmission Organization that operates wholesale markets for energy and capacity. Electric distribution companies serving retail customers in those states procure energy and capacity through PJM’s markets and through bilateral contracts with generators.

In the mid-2000s, both states determined that a lack of locally sited generation capacity was driving power prices too high and had the potential to lead to reliability issues. Concluding that PJM’s markets were providing insufficient inducement for building new generation capacity in their states, the Maryland Public Service Commission (PSC) and the New Jersey Legislature created similar programs to finance the construction of new natural gas-fired generation.

Under the programs, each state conducted a competitive solicitation for new generation capacity. After selecting a developer or developers, regulators required the state’s distribution companies to sign contracts for differences with the selected developer(s) that guaranteed certain revenues. In Maryland, the distribution companies paid the developer the differences between PJM prices for energy and capacity and energy and capacity prices set by the developer and approved by the PSC. In New Jersey, the distribution companies paid the developers the difference between PJM’s prices for capacity and a price authorized by the Board of Public Utilities. Therefore, in both states, contract prices were pegged to the wholesale market price.

Competing developers that sell energy and capacity through the PJM markets filed suits in federal district courts in Maryland and New Jersey arguing that the incentives were unconstitutional.

District Court Decisions
Following bench trials, the district courts determined that the Maryland PSC’s order and New Jersey’s law are field preempted. The New Jersey court also found that the state law was conflict preempted. Both courts concluded that the programs were not discriminatory under the dormant Commerce Clause.

On field preemption, the Maryland court summarized that “[w]hile Maryland may retain traditional state authority to regulate the development, location, and type of power plants within its borders, the scope of Maryland’s power is necessarily limited by FERC’s exclusive authority to set wholesale energy and capacity prices under [the Federal Power Act,] . . . the Supremacy Clause [of the Constitution] and the field preemption doctrine.”

The court found that the state-mandated contracts for differences “set” the prices of the developer’s wholesale sales. Because the Federal Power Act provides FERC with exclusive jurisdiction over wholesale rates, the court concluded that the PSC’s order was preempted.

The New Jersey court reached the same conclusion. It found that “[w]hile New Jersey retained the authority to take a wide range of actions to ensure reliable electric service for its citizens and encourage the construction of new electric generation facilities, it chose to advance those goals through a mechanism that intrudes upon the authority of the [Federal Energy Regulatory] Commission and violates federal law.”

On conflict preemption, the New Jersey court determined that the state-mandated contracts “pose[] an obstacle” to the implementation of PJM’s auction market for capacity. The court relied on testimony of witnesses from competing power generation companies who argued that PJM’s capacity market is designed to provide price signals that guide market participants’ investment decisions. The witnesses claimed that the state-imposed price undermines the market’s price signals and therefore conflicts with federal regulation. Based on their testimony, the court concluded that the “imposition of a government imposed price creates an obstacle to the [FERC’s] preferred method” for the sale of wholesale electricity. The Maryland court did not decide whether the PSC’s order was conflict preempted.

Both states and CPV, a developer awarded contracts in each state, appealed the district court decisions.

Circuit Court Decisions
Reviewing FERC’s regulation of the PJM markets, the Fourth Circuit concluded that the federal regulatory scheme is “carefully calibrated,” “comprehensive” and “quite sensitive to external tampering.” The panel held that the Maryland PSC’s order was field preempted because the order “functionally sets the rate” that the developer receives for its sales in the PJM auction markets and thus “compromises the integrity of the federal scheme and intrudes on FERC’s jurisdiction.” The court also found conflict preemption because the mandated contracts effectively “substitute[ed] the state’s preferred incentive structure for that approved by FERC.”

The Third Circuit similarly held New Jersey’s law “effectively sets capacity prices and therefore regulates the same field occupied by FERC” and is preempted. The panel rejected the argument that because FERC retains the ultimate authority under the Federal Power Act to determine whether or not the state-mandated contracts are “just and reasonable” the two regulatory regimes can co-exist. The relevant point, according to the panel, is not the justness and reasonableness of the rate but that the state-mandated contracts set the rate in the first place. That wholesale rate-setting function is beyond the state’s legal authority and is therefore preempted. The Third Circuit did not decide whether New Jersey’s law was also conflict preempted.

Both Circuit Court decisions emphasize that states retain authority to encourage the development of generation capacity. The Third Circuit noted that “FERC’s authority over interstate rates does not carry with it exclusive control over any and every force that influences interstate rates” and that its “decision does not diminish the[]important responsibility” states have in regulating the nation’s electricity supply. The Fourth Circuit similarly concluded that “not every state regulation that incidentally affects federal markets is preempted.”

Both states and CPV filed petitions for a writ of certiorari at the Supreme Court. In October 2015, the Supreme Court agreed to review the Fourth Circuit’s decision.